A Theory Of Shareholder Activism and Its Place In Corporate Law

by Bernard S. Sharfman

Offensive shareholder activism (more commonly known as hedge fund activism) can be understood as a corrective mechanism in the governance of a public company. The legitimacy of offensive shareholder activism as a corrective mechanism is based on numerous empirical studies that have found this type of activism to be both wealth enhancing for shareholders and performance enhancing for the target companies. A non–empirical argument can also be made in support of offensive shareholder activism that focuses on the ability of the board of directors to act as an impartial arbitrator deciding between the advices provided by executive management and the activist hedge fund.

Recognizing the value of offensive shareholder activism in the decision making of a public company allows for the following theory of shareholder activism: Shareholder activism is a valuable asset in and of itself if the purpose of such activism is to correct managerial inefficiencies. This new theory is built on the foundation of Henry Manne’s market for corporate control.

The implications for corporate law are significant. If corporate law does not recognize offensive shareholder activism as a corrective mechanism, then the benefits of such activism in terms of enhancing the managerial efficiency of public companies and increasing shareholder wealth may become significantly reduced. To facilitate this recognition, this Article provides new thinking on how Delaware’s Unocal test and Blasius standard of review should be applied by the courts when the Board takes action to minimize the influence of activist hedge funds. Under both standards of review it is argued that corporate law should always take a skeptical view of any Board action taken to directly or indirectly mitigate the influence of this type of activism. This approach is not about shifting decision‑making authority from the Board to activist hedge funds, but simply putting limits on the Board’s ability to use the legal system to thwart the influence of hedge fund activism in a public company’s decision‑making process.

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